Industry CMP Recommendation Add on Dips to band Target Time Horizon Paint Rs 245 Buy and Add on Dips Rs Rs Quarters

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1 INVESTMENT IDEA 10 JULY 2017 Berger Paints Ltd. Industry CMP Recommendation Add on Dips to band Target Time Horizon Paint Rs 245 Buy and Add on Dips Rs Rs Quarters HDFC Scrip Code BERPAI BSE Code NSE Code Bloomberg BERGEPAINT BRGR CMP as on 7 July Equity Capital (Rs Cr) Face Value (Rs) 1 Equity O/S (Cr) Market Cap (Rs Cr) 23,803 Book Value (Rs) 20 Avg. 52 Week Volumes Week High Week Low 178 Shareholding Pattern (%) Promoters 75.0 Institutions 14.1 Non Institutions 10.9 PCG Risk Rating* * Refer Rating explanation Yellow Nisha Sankhala nishaben.shankhala@hdfcsec.com Incorporated in 1969 and Headquartered in Kolkata, Berger Paints India Ltd. is the second largest decorative paint player in India with a market share of ~19%. The company offers a variety of innovative painting solutions to its customers in decorative and industrial segment with its strong distribution network comprising of 150 stock points, 25,000+ paint retailers and employee strength of above The company has international presence in 4 countries (Nepal, Bangladesh, Poland and Russia). We recommend Berger Paint a Buy at CMP of Rs. 245 and add on decline of Rs. 210 for the target price of Rs 289 and 315 for the time horizon of 3-4 Quarters. INVESTMENT RATIONALE: Favorable Indian demographics like increasing urbanization, increase in number of nuclear families, increasing disposable incomes will drive the demand for decorative Paint in future. Government is constantly taking initiatives for making housing available for all people of India and some big initiatives like Housing for all by 2022 and Building Smart city will bring huge demands for all building materials including decorative paints. We believe this will be the game changer for the whole paint industry and Berger paint is in the best place to ripe benefit out of it. Another factor boosting the paint market is the growth in the automotive industry which creates huge demand for industrial paints. The Indian auto industry is one of the largest in the world with an annual production of mn vehicles in FY , following a growth of 8.68% over the last year. The paint industry is raw material intensive. The key two raw materials are Crude Oil and Titanium Dioxide (TiO2). Sustained downturn in Crude oil prices helps in reducing input cost for company and leads to improvement in OPMs. TiO2 has also stabilized after a recent rise. Raw material prices under control helps paint players maintain margins. Berger paint is also looking for new avenues for increasing sales. Recently company has informed that they are planning to launch new products in home decorative segments. Company has also done several merger and acquisition for increasing its reach. Normal monsoon is expected this time, which will boost economic growth of the country and this will in turn help the sector in growth. Private Client Group - PCG RESEARCH P a g e 1

2 In the past 5 years the company has managed to post ~8% CAGR in sales, EBITDA has witnessed ~20% CAGR and Net Profit at ~21% CAGR. OPM has increased 12% to 18.2% in the same time period. This shows that Berger Paints has proved itself one of the best among the peers in the industry. We expect sale to post 13% cagr and PAT to see 18% cagr over FY17-19E. Berger has almost 30 years for dividend pay-out history. With negligible debt on books (0.2x D/E) and Cash & Cash Equivalents of around ~ Rs 470 cr. View & Valuation: Government s Push towards infra development, benign input cost, good monsoon and implementation of GST will benefit the company in the coming years. Company has posted strong financials in the past and we expect the trend to remain intact. At the current price stock is trading at 36x of FY19E, this is cheaper compared to peers. We recommend Berger Paint a Buy at CMP of Rs. 245 and add on decline of Rs. 210 for the target price of Rs 289 and 315 for the time horizon of 3-4 Quarters. Peer Comparison: Company CMP EPS P/E FY17P FY18E FY19E FY17P FY18E FY19E Asian Paints* Berger Paints Kansai Nerolac* * Bloomberg Estimates Berger has given consistent returns to investors across all business cycles. Price CAGR 1 Yr 5 Yr 10 Yr 15 Yr 20 Yr ASIAN PAINT BERGER PAINT Risk & Concerns: Fluctuations in raw material prices. Paint industry itself is seasonal in nature. Highly competitive business, so company has to spend big consistently on the Advertisements to maintain the market share. Private Client Group - PCG RESEARCH P a g e 2

3 Quarter Update: (Rs Cr) Q4 FY17 Q4 FY16 YoY Q3 FY16 QoQ FY16 FY17 FY18E FY19E Sales EBITDA Net Profit EPS (Rs) P/E EV/EBITDA Highlights of the Concall: Decorative business showed improved performance for the quarter over corresponding quarter in the aftermath of demonetization. Decorative paint segment is expected to look upon forecast of good monsoon. Robust value growth in decorative business expected riding on price increases with effect from 1st March 2017 and 1st May Infrastructure segment is expected to improve on the back of increased spending in government projects. Material cost as a % of sales was higher over corresponding quarter due to impact of price decrease in 4FY2016 and increasing trend for certain raw materials. Company's wholly owned subsidiary BJN Nepal and BOLIXS showed robust performance. Company's JV, Berger Becker Coatings showed impressive performance after a sluggish FY16. Upward trend in key RM prices and short term impact of GST may remain concern Private Client Group - PCG RESEARCH P a g e 3

4 INDUSTRY OVERVIEW: The Indian paint industry can be categorized into two broad categories viz, decorative and industrial paints. Decorative category accounts for 70% of the overall paints market in India in value terms while Industrial category accounts for rest. Decorative Paints: Decorative paints' segment includes exterior & interior wall paints, varnishes, enamels, primers, putties, distempers, etc. The demand for decorative paints is a direct demand and mainly arises from household & building painting. Demand in the festive season (September-December) is significant, as compared to other periods. Enamels are the most widely used followed by distempers and emulsions. Interior and exterior paints account for 75% and 25% of the decorative paints respectively. The main growth drivers for this segment have been shortening of repainting cycle and better demand from smaller towns. Another important driver for decorative paint segment is the rise in number of new homes underpinned by rising income levels and shift from joint families to nuclear families. Industrial Paints: This segment includes paints used in automobiles, auto ancillaries, consumer durables, containers, etc. User industries for industrial paints include automobiles engineering and consumer durables. The industrial paints segment is far more technology intensive than the decorative segment. Indian organised paint industry is an oligopolistic market, as the industry is dominated by 5 players Market Share of Leading Players in 2008 Market Share of Leading Players in 2016 Asian Paints 52% Berger Paints 17% Kansai Nerolac 16% Akzo Noble 11% Shalimar Paints 4% Asian Paints 53% Berger Paints 19% Kansai Nerolac 15% Akzo Noble 11% Shalima r Paints 2% Private Client Group - PCG RESEARCH P a g e 4

5 The latest report India Paint Industry Outlook 2022 of Indian Paint Association (IPA) says that the Indian paint market is expected to reach Rs cr by from around Rs cr in The decorative paint market is expected to witness CAGR of 12.7% and the industrial paint market to post CAGR of 9.5%. BUSINESS BACKGROUND: Incorporated in 1969 and Headquarters in Kolkata, Berger Paints India Ltd. is the second largest decorative paint player in India with a market share of 19%. The company offers a variety of innovative painting solutions to its customers in decorative and industrial segment with its strong distribution network comprising of 150 stock points, 25,000+ paint retailers and employee strength of above Around 70% of the Bereger s revenue comes from the decorative paints, 20% from the Industrial paints and remaining from the other business. The company also has an international presence in 4 countries (Nepal, Bangladesh, Poland and Russia). Berger has total 12 plants across the country with a combined capacity of 600,000 tonnes per annum. Diversified Business Segments: Private Client Group - PCG RESEARCH P a g e 5

6 Product Portfolio: INVESTMENT RATIONALE: Favourable Environment for growth The paint industry continues to outperform the overall GDP growth, mainly because of the continued thrust of the major paint manufacturers to popularize paints and the still relatively low per capita paint consumption of around 2.7 kg in India. However, India has been one of the few countries where there has been a consistent overall GDP growth (at 5-year CAGR of more than 6%) and an industrial GDP growth (of about 8.5%). These have helped the paint industry to increase its volume. Monsoon is expected to be Normal this time which will boost economic growth and will ultimately help the sector in growth. Favorable Indian demographics like increasing urbanization, increase in number of nuclear families, increasing disposable incomes etc. will drive demand for decorative Paint in future. In the medium-term, we believe implementation of the Seventh Pay Commission (would boost discretionary expenditure) coupled with expectations of better monsoons (would help in improving rural income) would be a strong trigger for the paint industry. This is evident from the history that the paint industry recorded strong volume growth of ~15% post implementation of the Sixth Pay Commission. More than 65% of decorative paints demand contributed by repainting demand, a reduction in duration of repainting activity from eight or nine years to four or five years has also been a reason for strong decorative paints demand. Private Client Group - PCG RESEARCH P a g e 6

7 Another factor boosting the paint market is the growth in the automotive industry which creates huge demand for industrial paints. The Indian auto industry is one of the largest in the world with an annual production of mn vehicles in FY , following a growth of 8.68% over the last year. The Company believes that continued urbanization, with support for the agriculture sector, will continue to provide the right impetus for the industry to perform even better in the future. Government Initiatives Government is constantly taking initiatives for making house available for all people of India and this has fueled all the housing ancillary including decorative paint industry. Some big steps includes, Housing for all by 2022: The government has launched the 'Housing for All by 2022' programme for the rehabilitation of slum-dwellers and promotion of affordable housing for the urban poor. The target is to provide nearly 20mn houses over 7 years. The scheme envisages rehabilitation of slum dwellers with participation of private developers, promotion of affordable housing for weaker section through credit-linked subsidy, affordable housing in partnership with public and private sectors, and subsidy for beneficiary-led individual house construction or enhancement. Smart City Mission: The government of India has a vision of developing 100 smart cities as satellite towns of larger cities and by modernizing the existing mid-sized cities. A total of Rs Cr has been approved by the Indian Cabinet for development of 100 smart cities and rejuvenation of 500 others. These steps will bring huge demands for all building materials including decorative paints. We believe this will be the game changer for the whole paint industry and Berger paint is in the best place to ripe benefit out of it. GST to have neutral to positive impact on the Industry Implementation of Goods and Services Tax (GST) is unlikely to have any significant impact on the price of paints for end-consumers. As paint is in the tax slab of 28% under GST, which is closer to the effective rate of tax that the industry is paying at present. However, GST remains a concern as it is expected to temporarily impact operations during the transition. Management announced a 2.5% price hike effective 1- May 17 across the decorative paint portfolio. The positive impact would be reduced tax arbitrage for the unorganized segment (30-35% of total industry). This will provide additional benefit to organized players in the long run (shift in demand of branded product category). Raw material prices trend The paint industry is raw material intensive. Around raw materials are required to manufacture different kinds of paints. But out of them Crude Oil and Titanium Dioxide remains two main products, which Private Client Group - PCG RESEARCH P a g e 7

8 constitutes almost ~70% of total input costs. So any price change in these two affects the most to the gross margin of the company. The Crude prices have been seeing significant decline trend nowadays. So this can create a very positive impact on the coming quarter numbers as almost 50% of raw material in paints is dependent on crude oil. The price of Titanium Dioxide (TiO2), the other important raw material which constitutes almost 10-12% of total input costs has also stabilized after showing a rise earlier this year. This rise has lead company to rise the paint prices and even margins also declined in the Q4FY17, but going further we do not expect any sharp rise in the price of TiO2. Declining Crude prices (INR/barrel) Stable TiO2 Prices (INR/kg) Source: Bloomberg, HDFC sec Research Source: Bloomberg, HDFC sec Research New Product launch- Diversification beyond paints Recently company has announced that it is planning to foray into the home decor business vertical and launch a basket of products other than paints which has so far been its sole focus area since the company's inception in India. Under consideration is the entry into segments such as sealants, adhesives, doors, windows, wooden floor and laminates, tiles, decorative items made of brass and copper, industrial flooring and various items made of wood, board, aluminums and other materials. Private Client Group - PCG RESEARCH P a g e 8

9 Although the company is seeking shareholders' approval to enter a basket of new segments, it is not expected to enter more than 2-3 segments in the initial days. The company will be leveraging its existing manufacturing facilities and the marketing network to take this new venture forward. Acquisition of Saboo Coatings, an industrial coatings company Berger paints had acquired Saboo Coatings Pvt. Ltd. (SCPL) at a consideration of Rs 818mn to foray into specialty liquid coating segment. SCPL is in manufacturing of specialty liquid coating in segments of agriculture & construction equipment, consumer electronics, automotive, general industrial, hardware and home furnishing. The total revenue of the company was Rs 894mn in FY17. Strong Financials and Healthy growth outlook In the past 5 years the company has posted~8% CAGR in sales while EBITDA has grown faster at ~20% and Net Profit at ~21% CAGR. OPM has surged from 12% to 18.2% in the same time period. This shows that Berger Paints has proved itself one of the best among the other players in the industry. We expect sales to post 13% CAGR and NP to witness 18% cagr over FY17-19E. Berger has almost 30 years for dividend pay-out history. With negligible debt on books (0.2x D/E) and Cash & Cash Equivalents of around ~ Rs 470 cr. We recommend Berger Paint a Buy at CMP of Rs. 245 and add on decline of Rs. 210 for the target price of Rs 289 and 315 for the time horizon of 3-4 Quarters. Private Client Group - PCG RESEARCH P a g e 9

10 Housing for all initiative to drive volume growth Price hike and reducing crude prices will help in improving margin Reducing Debt trend Robust Return Ratios Private Client Group - PCG RESEARCH P a g e 10

11 Income Statement (Consolidated) (Rs Cr) FY15 FY16 FY17 FY18E FY19E Net Revenue Other Income Total Income Growth (%) Operating Expenses EBITDA Growth (%) EBITDA Margin (%) Depreciation EBIT Interest PBT Tax RPAT Growth (%) EPS Note: Financials for FY16 onwards are based on Ind-AS and hence FY15 numbers are not strictly comparable. Balance Sheet (Consolidated) As at March FY15 FY16 FY17 FY18E FY19E SOURCE OF FUNDS Share Capital Reserves Shareholders' Funds Long Term Debt Net Deferred Taxes Long Term Provisions & Others Minority Interest Total Source of Funds APPLICATION OF FUNDS Net Block Deferred Tax Assets (net) Long Term Loans & Advances Total Non Current Assets Current Investments Inventories Trade Receivables Short term Loans & Advances Cash & Equivalents Other Current Assets Total Current Assets Short-Term Borrowings Trade Payables Other Current Liab & Provisions Short-Term Provisions Total Current Liabilities Net Current Assets Other Assets Total Application of Funds Private Client Group - PCG RESEARCH P a g e 11

12 Cash Flow Statement (Consolidated) (Rs Cr) FY15 FY16 FY17 FY18E FY19E Reported PBT Non-operating & EO items Interest Expenses Depreciation Working Capital Change Tax Paid OPERATING CASH FLOW ( a ) Capex Free Cash Flow Investments Non-operating income INVESTING CASH FLOW ( b ) Debt Issuance / (Repaid) Interest Expenses FCFE Share Capital Issuance Dividend FINANCING CASH FLOW ( c ) NET CASH FLOW (a+b+c) Closing Cash Key Ratios FY15 FY16 FY17 FY18E FY19E EBITDA Margin EBIT Margin APAT Margin RoE RoCE Solvency Ratio Net Debt/EBITDA (x) D/E Net D/E Interest Coverage PER SHARE DATA EPS CEPS BV Dividend Turnover Ratios (days) Debtor days Inventory days Creditors days Working Capital Days VALUATION P/E P/BV EV/EBITDA EV / Revenues Dividend Yield (%) Private Client Group - PCG RESEARCH P a g e 12

13 Rating Chart R E T U R N HIGH MEDIUM LOW LOW MEDIUM HIGH RISK Ratings Explanation: RATING Risk - Return BEAR CASE BASE CASE BULL CASE IF RISKS MANIFEST BLUE PRICE CAN FALL 15% IF RISKS MANIFEST LOW RISK - LOW & IF INVESTMENT PRICE CAN FALL RETURN STOCKS RATIONALE 20% OR MORE FRUCTFIES PRICE CAN RISE BY 15% YELLOW RED MEDIUM RISK - HIGH RETURN STOCKS HIGH RISK - HIGH RETURN STOCKS IF RISKS MANIFEST PRICE CAN FALL 35% OR MORE IF RISKS MANIFEST PRICE CAN FALL 50% OR MORE IF RISKS MANIFEST PRICE CAN FALL 20% & IF INVESTMENT RATIONALE FRUCTFIES PRICE CAN RISE BY 30% IF RISKS MANIFEST PRICE CAN FALL 30% & IF INVESTMENT RATIONALE FRUCTFIES PRICE CAN RISE BY 30% IF INVESTMENT RATIONALE FRUCTFIES PRICE CAN RISE BY 20% OR MORE IF INVESTMENT RATIONALE FRUCTFIES PRICE CAN RISE BY 35% OR MORE IF INVESTMENT RATIONALE FRUCTFIES PRICE CAN RISE BY 50% OR MORE Private Client Group - PCG RESEARCH P a g e 13

14 Rating Definition: Buy: Stock is expected to gain by 10% or more in the next 1 Year. Sell: Stock is expected to decline by 10% or more in the next 1 Year. Private Client Group - PCG RESEARCH P a g e 14

15 Disclosure: I, Nisha Sankhala, MBA, authors and the names subscribed to this report, hereby certify that all of the views expressed in this research report accurately reflect our views about the subject issuer(s) or securities. HSL has no material adverse disciplinary history as on the date of publication of this report. We also certify that no part of our compensation was, is, or will be directly or indirectly related to the specific recommendation(s) or view(s) in this report. Research Analyst or her relative or HDFC Securities Ltd. does not have any financial interest in the subject company. Also Research Analyst or her relative or HDFC Securities Ltd. or its Associate may have beneficial ownership of 1% or more in the subject company at the end of the month immediately preceding the date of publication of the Research Report. Further Research Analyst or his relative or HDFC Securities Ltd. or its associate does not have any material conflict of interest. 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